2 Important Updates in the Pipeline Industry

It is conceivable that Americans and Canadians alike are more aware of oil pipelines now than ever before in our collective histories. Both countries are facing highly controversial pipeline projects that are opposed by citizens and environmentalists, and therefore are receiving more media attention than these otherwise innocuous conduits are used to. On top of that, the midstream industry itself is in flux as oil producers begin to favor rail over pipe, a trend that is also garnering media attention. With that in mind, today we take a look at two recent pipeline developments and how they reflect the bigger picture for energy investors.

Freedom is out
Kinder Morgan Energy Partners (NYSE: KMP  ) is officially canceling its proposed Freedom pipeline after failing to secure enough customer agreements. There are two takeaways for midstream investors. First and foremost, this has little bearing on the success of Kinder Morgan this year. Both Kinder Morgan (NYSE: KMI  ) and KMP have increased financial expectations for 2013, driving annualized dividends and distributions up by $0.03 and $0.05, respectively. The anticipated improved performance is due largely to the Copano acquisition. So again, Freedom is out, but it means very little to the big picture. It wouldn't have come on line until 2016, and there is plenty of time to figure out an alternative project.

What does matter to the big picture is that California refiners are making a statement here, which is that they increasingly prefer the flexibility of shipping oil by rail and they do not care for the lengthy contracts that are associated with pipeline commitments. The typical rail contract is good for three to five years, whereas pipeline contracts range from 15 to 20 years. One issue with the Freedom line was that the cost of using it was more or less equal to transporting by rail. If that is the case, pipelines will lose every time.

It is important to note at this point, that cost is the most important factor. That is likely the main reason Canadian oil sands have yet to make their way into the U.S. via rail in significant numbers, only hitting 25,000 barrels per day in January, compared to shipments from U.S. plays which moved 762,000 barrels per day in the first quarter.

Going forward, Kinder Morgan will investigate oil-by-rail opportunities in California and West Texas.

Northern Gateway may be out, too
The British Columbia government has made an official statement against Enbridge's (NYSE: ENB  ) Northern Gateway project:

British Columbia thoroughly reviewed all of the evidence and submissions made to the panel and asked substantive questions about the project, including its route, spill response capacity and financial structure to handle any incidents...Our questions were not satisfactorily answered during these hearings...Our government does not believe that a certificate should be granted before these important questions are answered.

Remember, this is an east to west pipeline designed to carry oil sands from Alberta to the coast of British Columbia. It is being opposed in Canada for many of the same reasons that TransCanada's (NYSE: TRP  ) Keystone XL pipeline is being opposed in the U.S. However, this pipeline is arguably more important because access to the coast would immediately diversify Canada's customer base for oil exports; right now the U.S. buys virtually all of our neighbor's oil. It would also likely drive up the price of Canadian oil sands, which remain depressed and are causing serious problems for the industry.

Enbridge officials took the British Columbia statement in stride; they have been more than aware of what they are up against for quite some time, and plan to meet with the B.C. government to discuss its concerns for the $6.6 billion project. (Remember when it only cost $5.5 billion? Those were the days.)

The line is slated to receive, or not receive, National Energy Board approval next year. The review process will continue, and though the statement by British Columbia makes things tougher, there is still a chance the project will get approved anyway.

What will be especially interesting is what happens with the Keystone XL. TransCanada is expecting to hear a decision by mid-summer, according to Bloomberg News. If it is blocked, Canada's oil industry will grow increasingly desperate to get a project passed. Kinder Morgan's Trans Mountain expansion could be affected as well.

Bottom line
The next two years will likely see significant changes in the pipeline industry, in turn affecting both the oil production and refining industries. It behooves investors to pay attention now, as patterns of change and their implications slowly make their way to the surface.

It's easy to forget the necessity of midstream operators that seamlessly transport oil and gas throughout the United States. Kinder Morgan is one of these operators, and one that investors should commit to memory due to its sheer size – it's the third-largest energy company in the U.S. – not to mention its enormous potential for profits. In The Motley Fool's premium research report on Kinder Morgan, we break down the company's growing opportunity – as well as the risks to watch out for – in order to uncover whether it's a buy or a sell. To determine whether this dividend giant is right for your portfolio, simply click here now to claim your copy of this invaluable investor's resource.


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